A whole industry has sprung up on both sides of the Pacific to dodge the rules on both sides of the Pacific.
Today, the Federal Reserve, in its function as banking regulator, wagged its finger at Industrial and Commercial Bank of China (ICBC) for insufficient procedures to detect illicit money transfers and other prohibited transactions and gave the bank 60 days to put together new anti-money laundering procedures.
ICBC, the largest bank in the world and one of the Big Four state-controlled Chinese banks, has a number of operations in the US, including two in San Francisco, one in Oakland, one in Torrance, Southern California, one in Flushing, NY, and two in New York City, including one on the 20th floor of Trump Tower.
The Fed started hounding the big Chinese banks on money-laundering procedures in the US in July 2015, with its first known enforcement action of that sort, when it gave China Construction Bank 60 days to produce plans that would curtail money laundering and suspicious transactions.
The Chinese government too has been cracking down on money flows as part of its capital controls. For individuals, these rules were tightened effective January 1, 2017. The punishment for illegal outflows was strengthened and scrutiny was increased. The individual annual maximum of $50,000 remained in place. If individuals want to obtain foreign currency from their bank, they have to fill out an application and disclose what they want to do with it. This application would then scrutinized by State Administration of Foreign Exchange.
With only mitigated effect when it comes to Chinese individuals trying to get their money out of harm’s way and plowing it into foreign homes.
Chinese individuals spent 25% less on homes overseas in 2017, compared to 2016, according to one of China’s largest international property portals, Juwai.com, cited by the Financial Times. But that still came to $40 billion, among the three largest annual amounts ever.
And $50,000 doesn’t buy a home anywhere in the coastal areas of the US, where Chinese buyers like to buy. And even in cheaper urban areas, $50,000 isn’t enough to buy a home.
Yet every major real-estate brokerage in the US markets its American homes aggressively to buyers in China, on Chinese-language websites. This includes, as of last April, Warren Buffett’s Berkshire Hathaway HomeServices, a subsidiary of HomeServices – the second largest residential brokerage in the US – when it announced a marketing agreement with Juwai.com “to syndicate all of its franchisees’ residential listings.”
So a whole industry has sprung up on both sides of the Pacific to get around the rules on both sides of the Pacific.
“Buyers are more interested than ever, but some are taking longer to complete their purchases,” Jay Xiao, general manager of the East-West Property brokerage in Shanghai, told the Financial Times. The brokerage specializes in American properties. Ms. Xiao has worked with 1,000 buyers.
It used to take three to six months for a Chinese buyer to buy a US home, from a first viewing to completing the deal. In 2017, about quarter of the deals were delayed, and on average it took over six months to complete a deal.
“It’s more annoying to move money out, but the vast majority feel it’s worth it to secure their kids’ health and education,” Xiao told the FT:
The country’s elite worry about pollution giving their children asthma, a stiff education system that their youngsters might not thrive in, and losing their rank within China’s ever-shifting social hierarchy. Emigrating, or being educated abroad, gives children a boost in status as well as access to societies seen as more stable.
Unlike the salaried middle class, the upper class mostly came by their wealth through one-off events, Ms. Xiao says – a business deal, an initial public offering, or buying a house in the 1990s at the start of the property boom. “They’re worried that they can’t repeat it,” says Ms. Xiao. “Nobody feels secure.”
Then there’s another problem – and opportunity.
“Chinese investors have few places to put their money,” explained Henry Zhou, founder of Henry Group, which helps people invest and emigrate overseas.
“As long as a customer pays, how they got their money out is not our business,” the founder of an online property brokerage who didn’t want to be name, understandably, told the FT.
“There is always a way of getting past a rule in China,” the manager of a Beijing property investment company looking to buy in the US told the FT.
This type of investment strategy has perverted homes where people live into a financialized global asset class, like stocks or bonds. With a difference: People don’t live in stocks and bonds; but they do live in homes. When homes become a global asset class, the demand is theoretically unlimited, and no construction boom can ever supply enough homes quickly enough. The whole supply-and-demand equation of the housing market falls apart.
Homes owned by foreign investors may be vacant for years and are thus not part of the actual housing stock. This contributes to the surge in prices – and hence the broader syndrome of the “affordability crisis,” and in places like San Francisco, the “Housing Crisis,” for people who’re actually trying to live in homes.
Conversely, this demand for an asset class can evaporate just as quickly – not necessarily when governments are trying to crack down as buyers see this as a winnable cat-and-mouse game, but when prices decline, and when this vacant and costly-to-maintain overseas “investment” suddenly turns into an expensive albatross. And then investors’ efforts to get out from under those costly assets can destabilize the housing markets further.
For US homes prices, it’s now a story of spikes and new flat spots. Read… Update on the Splendid Housing Bubbles in US Cities
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